Starting Practice In Difficult Economic Times

Issue: Fall 2009

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Several banks have failed and many more are on the edge of failure. The credit industry has collapsed. So has the home mortgage industry. Businesses are unable to secure loans for expansion, maintenance or even just survival.

The United States is in a recession. And whether the U.S. led or precipitated the problem, or it occurred simultaneously worldwide, this is not just a U.S. problem. It has affected International Trade and International Economy’s. And all of this might be the good news.

By now you should be asking, if that might be the good news, what is the bad news? The bad news is this has all occurred at approximately the same time that 4200 new dentists are graduating from dental school, joined by 12,000+ graduates from the prior three years, most of whom are trying to find associate positions or become business and dental practice owners. After four years of dental school training and record dental school debt, will today’s graduates have to delay becoming practice owners? Probably not!

Economy’s Impact on Existing Dentists
Before we can discuss how to become a practice owner in today’s economy, we need to address the economic status of current dental practice owners. Like the rest of world, they have lost a significant amount of their personal retirement plans. Several, in the midst of transitioning their dental practice to a new dentist, have stopped the sale process and announced they can no longer afford to retire.

Many more, planning on retiring over the next couple of years, have put their retirement plans on hold. This means fewer practices will be available to buy over the next couple of years. Fewer practices on the market triggers a well known economic principal, “supply and demand”. As demand increases for a dwindling supply of practices, prices will reverse their past slow decline and in fact start to rise. Simply put, fewer practices means the ones that are available are worth more.

In addition, many existing practices are seeing reduced demand for services. For dentists considering taking on associates, whether part of a future sale, future partnership, or just to take care of a growing demand that they can no longer service, they have also put their plans to hire an associate on hold. This means less employment options for all of the new graduates.

Why Ownership is Critical
Historically, according to American Dental Association statistics, 80% of new graduates become dental practice owners within five years of graduation. The initial offer of $80,000-$100,000 as associate compensation after years of poverty level income seems like, to many new dentists, that they have finally reached the “promised land”. The reality is, however, that as a practice owner, they will earn three-to-four times as much as they can as an associate. This is why most dentists quickly begin seeking ownership opportunities. And in today’s economy, fewer associate positions means more new dentists will need to get into ownership sooner than ever.

The average general dentist in practice today produces and collects approximately $50,000 per month (including hygiene). Assuming a 55% adjusted overhead (adjusted to remove discretionary expenses, interest, and personal benefits paid through the practice), this means $22,500 is left in pre-tax income for the owner. When compared with the $7,500 starting associate compensation, this means each month ownership is delayed will cost the new dentist $15,000 in pre-tax income, or approximately $10,000 in after tax income.

Fewer partnerships and associate positions will force new dentists into ownership earlier than many planned. In addition, delayed retirements will force many new dentists to begin practice ownership through start-ups. Finally, the average quality of practices available to purchase despite the economic conditions will improve. The reason for this is that marginal practice owners will be forced to continue practicing instead of retiring.

Assessing Practice Purchase Opportunities
While there are many differences between individual general or specialty dental practices, there is one difference that makes a significant impact on the ultimate success of any practice. This is the “business efficiency” of the practice. While the delivery of one aspect of “healthcare”, i.e. clinical dentistry, is the product of dentistry, the vehicle of delivery of that product is the “business of dentistry”.

Those dentist owners who realize their practice is a business and have learned how to run a “successful and profitable” business do better “clinically and financially”. The more treatment they deliver, the more profitable their business. Furthermore, they realize comprehensive treatment is better for their patients than triage dentistry which furthers their “business success”. The delivery and integration of preventative, emergency, restorative, and reconstructive dentistry is the definition of “comprehensive” dentistry. This type of practice is also, like other healthcare delivery, fairly resistant to economic cycles. Protecting one’s health and treating illness is not optional for patients who frequent this type of practice.

Conversely, those practices without an effective recall/recare program and/or comprehensive soft-tissue management program, without comprehensive treatment planning and case presentation, and without a “total patient focus”, struggle the most during difficult economic times. Patients in these practice are delaying elective treatments and even preventative visits. These practices “survive” day-to-day doing emergency treatment and individual restorations. These can be best described as triage practices.

Obviously, if entrance into ownership takes the path of purchasing an existing practice, the former type (comprehensive) is more desirable. These are also the type more likely to be available during difficult economic times because their owners are in a better financial place and many are going ahead with their sale and retirement plans.

Is Ownership Possible in Today’s Economy?
This is the best news. The answer is absolutely, although it will be more of a challenge than previous new graduates have experienced. Whether purchasing an existing practice, or starting a practice from scratch, if your credit history is good, new dentists are still having no problem securing the necessary financing to become practice owners. The reason is the Small Business Administration’s (SBA) “loan failure” tracking history.

By comparison to other businesses, new dentists have among the lowest, if not the lowest, business and subsequent loan failure rate of any business loan guaranteed by the SBA. The last published numbers put this failure rate at 2.1% during their first five years of ownership for new dentists, whether purchasing an existing practice or starting from scratch. This figure is compared with other business start-ups which experience a failure ten times greater than dentists.

Despite all the bad economic news, dentistry is still a fairly “necessary” service. Yes, unless a patient is in pain, has swelling, or infection, care can be delayed, but the best patients will continue with routine care. Yes, demand for dental services will also be down, but when compared with the rest of the U.S. economy, dentistry is still in much better shape.

Purchasing an existing practice is still the easier route to ownership. However, as the difference between the number of new available dentists compared with dentists trying to leave practice and an ever-increasing U.S. population widens, it is getting easier and easier to find locations that can readily support a start-up practice despite the economy. These areas are, however, generally more rural in location. Starting up in a metro area or around your dental school where there is an existing high concentration of new dentists will still be a problem.

Financing Considerations
Historically, because of the low failure rate for new dentists, obtaining the necessary financing to become a practice owner has been fairly easy, providing certain requirements are met. With the new economic world we now live in, this is still true, although requirements have been tightened. As a direct result of the banking industry problems, a couple of the major dental lenders have left the market. But a couple of others have entered the market to replace them. The future of those that stayed in the market may change, but for now, there is plenty of financing available for “good credit risks”, and dentists are extremely good credit risks, even in today’s economy.

The number one requirement, a clean credit history, has not changed. There are no exceptions to that rule. A couple of minor blemishes, as long as they are disclosed at the time of application, will normally be overlooked but any undisclosed problems discovered by the lender when they run the new dentist’s credit history will end the attempted ownership process.

If the intent to enter ownership is by purchasing an existing practice, two additional requirements must be met. The first is that the subject practice must historically generate enough revenue to meet all operating expenses, the payments on the purchase financing, and generate enough profit to pay your personal living expenses and personal debt service. The second requirement is that the purchaser is able to produce the historical amount of “dentist only production”.

If ownership is to be acquired by starting a practice from scratch, obtaining financing will be more difficult. The new dentist will need to prove to the lender that they have sufficient experience, have a plan to supplement their income, and have a well thought out plan to develop a practice. This means they typically have a business and marketing plan, and are working with a dental supply company that has an acceptable track record with the lender in assisting the new dentist with the tools necessary to start a practice. Just selling and installing dental equipment does not guarantee success.

Most importantly, the lender must be comfortable with the demographics of the area which will have to support the start-up. This means the population to general dentist ratio must be more than 2,000 adult residents per dentist. Most will require a formal demographic study prior to approving financing. Again, reputable local dental equipment and supply companies will know the area and can provide that information.

If a partnership, either short or long term, is the desired route to ownership, financing is typically provided primarily by the seller. The reason for this is primarily tax considerations. Therefore, nothing has changed related to the economy that affects this type of ownership opportunity.

Get Competent Help
No matter which route to ownership is chosen, the new dentist must surround themselves with competent advisors. When selecting these advisors, get and check references. When checking references, you want the opinion of new dentists who have used these consultants to successfully become owners. Check at least three of their prior clients. Ask them about their experience, and most importantly, would the new-dentist owner use or recommend this consultant again.

Carefully consider what is in the sale “for the consultant”. If the consultant is a broker/transition consultant, there is a tendency to tell the new dentist whatever the new dentist wants to hear in order to secure a commission for the broker. Therefore, the best transition consultants are consultants employed by a dental supply company. Note the word, “employed by”, versus associated with. While this advice may seem to be self- serving, the new dentist must realize that it is the future business of the new dentist that is at stake, and therefore, these dental company “employed” consultants, while typically paid by the seller, need to protect the buyer or risk forever losing their future supply and equipment business.

An accountant or practice management consultant who deals only with dentists is another good type of consultant to utilize. These two types of consultants are not dependent upon the current commission earned, but rather are also far more interested in the future business of the buyer.

The final consultant required is an attorney. However, extreme caution in selecting an attorney cannot be overstated. They are best used to review agreements, not “negotiate” a deal on behalf of the new dentist. To purchase a practice, typical attorney fees are $1,000-$2,000. However, we have seen attorneys charge $20,000+. It is critical to the process to obtain a quote for services before an attorney is engaged. And again, get and check references before employing an attorney.